U.S. Policy Should Support Keeping the Oil Boom Going

Article published in The Plain Dealer on September 29, 2014 – by Robert J. Samuelson, columnist for the Washington Post Writers Group

One of the economy’s good-news stories is the oil boom, a derivative of the natural gas boom. When the drilling techniques used to tap vast new reservoirs of natural gas were applied to oil, they yielded similarly astounding results. Since 2008, U.S. oil production has increased from 5 million barrels a day (mbd) to 8.3 mbd in 2014. The U.S. Energy Information Administration says it could go to 9.6 mbd by 2019.

By all logic, we should be working to sustain the boom. We aren’t, and therein lies a classic example of how good policy is held hostage to bad politics and public relations. What would promote continued exploration is a lifting of the current U.S. ban on exporting crude oil. Let producers sell into the world market. But that seems (wrongly) an unjustified giveaway to industry. The public perceptions are atrocious.

Hardly anyone expected the oil boom, with some notable exceptions – prominently Harold Hamm, who pioneered North Dakota’s Bakken field. “Fracking” (the injection of pressurized water into fields to make oil and natural gas flow) and “horizontal drilling” (the use of one pipe along a single oil reservoir) changed everything. Formations of “tight oil” embedded in shale or dense sandstone became economical to produce.

The benefits are huge. Surging U.S. production has created thousands of jobs, helped stabilize global oil markets and curbed our import dependence. From 2008 to 2014, net imports dropped about 50 percent.

If you want companies to search for oil, you have to provide them with a viable market where they might profitably sell it. As output has increased, this has become a bigger issue. Here’s why.

The new oil consists mostly of “sweet, light” crudes, meaning they have a low sulfur content and are less dense than “sour, heavy” crudes. The trouble is that many U.S. refineries have been designed to process heavy, sour crudes. They aren’t suitable for the new oil. At the end of 2013, the United States had 115 refineries capable of processing about 18 mbd, according to a report from the Congressional Research service. About half were fitted for sour and heavy crudes. That’s especially true along the gulf of Mexico coast, where more than half of U.S. refining capacity is located.

The result is that more and more new oil is chasing less and less refining capacity. Refineries’ bargaining power rises. Producers have to accept price discounts to sell their oil. A second problem is that much of the new production is located in North Dakota, with an inadequate pipeline network to transport the crude to refineries. To offset more costly barge and rail transportation, producers (again) have to discount prices.

Some strains will be eased by refinery expansions and new pipelines. How much is unclear. But as a report from the Brookings Institution argues, producers will be discouraged by an oil market that seems rigged against them. They will react by slowing – or possibly stopping – new exploration. The oil boom will ebb or end. Global oil supplies will then be lower than they would otherwise be, so prices will be higher. It’s a bad outcome for the United States but a good one for Russia, Iran and other producers hostile to us.

It’s also the logic of U.S. policy preventing producers from selling into the international market. The prohibition was included in the Energy Policy and Conservation Act of 1975 and reflected Americans’ anger over the quadrupling of oil prices in the early 1970s. If U.S. producers could instead sell abroad, they would have a vast market. Not all oil would go overseas. But the world market’s availability would, assuming no major price collapse, justify continued exploration for new supplies.

Explaining this persuasively in public is difficult, maybe impossible. It’s complicated. It requires showing why the long-term consequences of an export ban (less oil and higher prices) might be different from the short-term consequences (an artificial glut in the United States and lower American prices), which would be temporary. It’s far easier to denounce oil producers as greedy and to argue that selling American oil to foreigners is an unpatriotic act that would hurt the poor and middle class. Those sound bites resonate; sleep-inducing analyses don’t.

On task of political leadership is to bridge this divide – to find ways and words that build public understanding and support for policies requiring patience. Events are forcing the ban on crude exports onto the political agenda. the economic and strategic implications are huge. How we address them will measure our seriousness.

If you have questions about this article or an oil and gas law issue, please contact any of the attorneys in the firm’s Oil & Gas Practice Group.